“The major need for equity capital in marine transport,” is driving uncharacteristic interest in the shipping industry from shrewd private equity investors, says Wilbur Ross, chairman and CEO of WL Ross & Co. LLC, which has made large investments in several niche carriers over the last couple of years.
In October, the veteran leveraged buyout and distressed-asset investor announced a $110 million investment to take a majority stake in Navigator Gas, a leading owner of liquid petroleum gas carriers. And in 2011, Ross joined a syndicate of other A-list private equity investors in backing Diamond S Shipping, which won Mergers & Acquisitions’ M&A Mid-Market Award for Deal of the Year for 2011 for its purchase of 30 tankers and charters from Cido Shipping of Hong Kong.
Many carriers need cash to meet current and future debt obligations. Concurrently, private equity is under pressure to quickly invest as much as $300 billion of unallocated assets and is searching for large non-traditional sectors that have “fundamental problems of limited duration,” Ross says, speaking at recent conference hosted by Marine Money magazine in New York.
The mandate to quickly deploy cash or return it to investors is a major reason why PE investment in capital-intensive marine transportation could double by the end of 2014 from the current level of $3 billion in equity investment and $4 billion in distressed debt, Ross said. The increased prominence of shipping as an investment outlet among PE firms is also due to the difficulty they’re now having finding bargains in stock and bond markets, Ross said.
Beyond providing an opportunistic investment opportunity that ideally can meet private equity’s lofty return targets, what’s the shipping industry’s fundamental appeal to private equity?
It’s the inherent and violent cyclicality of this industry that makes it attractive, says Harry Theochari, head of transport at investment banking firm Norton Rose Fullbright. Timing the purchase correctly of currently distressed-shipping company debt, cheap stock and low-value older ships can generate outsized return.
“Investing for the cyclical upturn has been private equity’s primary motivation,” says Randee Day, president and CEO of Day and Partners LLC, a maritime consulting firm.
Second, the shipping industry continues to be ripe for consolidation through PE-driven rollups. Rolling up disparate carriers is expected to improve vessel utilization and operating efficiencies, resulting in higher operating profit and cash flow, Ross explains.
“There is no fundamental reason why the industry should be so fragmented,” he adds. In most segments of this balkanized industry, no player has more than a 5 percent market share, Ross says. Even in container shipping — the most concentrated industry sector — the top six players have less than 60 percent market share.
Moreover, industry consolidation should promote increased pricing discipline among ship owners, resulting in higher charges and ultimately increased profit.
Finally, shipping is a growth sector in what appears to be an improving world economy. Fast-growing developing countries with rising standards of living rely on ships to deliver imported raw materials needed to expand vital infrastructure and add manufacturing capacity. Also, most finished goods travel to export markets by ship.
In fact, container ship traffic historically grows at a significant multiple of the world’s Gross Domestic Product. And any volatility in underlying commodity markets means increased geographic arbitrage, or longer movement or transportation of goods, as measured in cargo tons miles, an important measure of industry utilization.
So why has private equity been reluctant to invest in shipping in the past?
First, it’s difficult to quantify risk and potential return in the shipping industry, according to Theochari. Carriers must contend with many variables over which they have virtually no control. Effectively, carriers are price takers, not price makers. In addition, shipping fundamentals are difficult to master, because profitability is tied to specific vessels serving specific markets.
The second barrier is a cultural/managerial one. Ship owners tend to be free-spirited entrepreneurs who often rely as much on their instincts about market timing rather than financial analysis when it comes to making crucial business decisions. Relinquishing managerial control also is difficult.
Shipping is not private equity’s strong suit, explains Artistides Pittas, CEO of Euroseas Ltd., a Greece-based operator of dry cargo, dry bulk and container ships that has private equity partners. “They are deciding to take a bet on a market and work with an operating partner to do it for them. It is not a traditional private equity business,” says Pittas.
Finally, there is the issue of investment horizon and exit strategy. While most private equity firms generally have a three- to five-year investment window, shipping cycles tend to run five to seven years.
“Private equity must be prepared to take the pain when it comes. They must be patient,” Pittas advises. For more on PE investments in distressed shipping companies, see "Littlejohn Invests in Consolidating Shipping Industry" and "Marine Shippers Aim to Stay Afloat."
Ira Breskin is a writer and senior lecturer, who teaches applied maritime economics and maritime policy at State University of New York Maritime College in the Bronx, New York .